How To Invest: Why Top-Notch Earnings Growth Is Key

Research of the 600 best-performing stocks between 1952 and 2001 shows three of four reported year-over-year earnings-per-share growth averaging 70% in the quarter before beginning their winning runs. The other 25% averaged EPS growth of 90% in the quarter immediately following the start of their runs.

Those included Dell's (DELL) 1,780% advance, Cisco Systems' (CSCO) 1,467% run and America Online's 557% surge. Other examples run as far back as 1917 and as recently as the past year's gains by Krispy Kreme Doughnuts (KKD) and Lumber Liquidators (LL).

The "C" in CAN SLIM stands for current quarterly earnings. That is because nothing highlights leadership potential like an acceleration in earnings growth.

A few successful stocks run up without posting hefty profit gains. But for investors seeking clear-cut signs of leadership potential, earnings growth is the gold standard starting point.

What does that starting point look like?

Big acceleration or powerful steady growth means 25% gains in EPS per quarter at a minimum. Big double- or triple-digit gains are even better. Such numbers will produce a very good Earnings Per Share Rating, which runs from a scale of 1 (worst) to 99 (best). In general, focus on those with an 80 or higher.

Big earnings numbers are a starting point, not an "all clear" sign to jump in with both feet. Always perform basic due diligence and confirm the stock's leadership potential.

It's also healthy to be skeptical of earnings numbers. Even with strict reporting rules, companies have much leeway in how they influence and report their numbers. The closer you look at SEC filings and news stories on a company, the better chance you have of unearthing questions regarding the earnings numbers.

Big earnings growth was somewhat easy to find over the past couple of years as companies rebounded from the economy's dive. Now, the lagging economic recovery is keeping a lid on performance. This makes earnings growth, a signature of well-managed operations, an even more important metric than ever.

FleetCor Technologies (FLT) upshifted from 4% earnings growth in the final quarter of 2011 to 28% gains — above the 25% target — in the first two quarters of 2012.

The provider of fuel credit programs to truck and vehicle fleets provider snapped out of a cup base in strong trade in August (monthly chart is shown). It soon posted Q3 earnings growth of 48%. Today, its Earnings Per Share Rating is a maximum 99.

Growth investors also had an eye on chip designer Ambarella (AMBA) after it reported 156% EPS growth in Q3 last year, its first quarter as a publicly traded company. The stock broke out from a brief IPO consolidation and is now trading 197% above its October IPO price.

See Also

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Research shows that earnings are a key driver in a stock's performance. Consider this finding in "How to Make Money in Stocks" by IBD founder William J. O'Neil: "In our models of the 600 best-performing stocks from 1952 to 2001, three out of four showed earnings increases averaging more than 70% in ...

About Investor's Business Daily

Investor’s Business Daily provides exclusive stock lists, investing data, stock market research, education and the latest financial and business news to help investors make more money in the stock market. All of IBD’s products and features are based on the CAN SLIM® Investing System developed by IBD’s Founder William J. O’Neil, who identified the seven common characteristics that winning stocks display before making huge price gains. Each letter of CAN SLIM represents one of those traits.

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